No matter what financial level my client has reached, he or she always puts one thought front and center when we first sit down to create a plan — RETIREMENT. Over the past few decades the retirement savings landscape changed drastically, and it’s crucial that you roll with these changes. Here’s an excerpt from a great article by Matt McCoy, where he focuses on the 3 reasons why your retirement will look much, much different than that of your grandparents’ (and that’s not necessarily a bad thing either)…
3 REASONS WHY YOUR RETIREMENT WON’T LOOK LIKE YOUR GRANDPARENTS’ by Matt McCoy
- Pension income – While some of you may be fortunate enough to participate in an active defined benefit (pension) plan through your employer, the majority of workers have access to only a defined contribution plan (401(k), 403(b), or similar). The shift away from defined benefit plans toward defined contribution plans has placed more responsibility in the hands of the plan participants regarding contribution amounts and investment selection. Whereas a pension plan would provide a clear picture of income replacement, participants are now left to their own devices to save enough and invest prudently in order to reach the desired level of income replacement needed. And this does not consider the shift in the cost healthcare coverage for retirees from the employer to the retiree – especially those who retire prior to age 65.
- Social Security benefits – Each of us have our own opinions regarding the current and future status of the Social Security system, but we’ll leave the debate for a future discussion. The fact is the ratio of workers paying into the system per retiree collecting benefits has fallen substantially since the program’s inception. Many experts expect this trend to continue, which leads to one simple conclusion — something has to give. Whether that “something” comes in the form of reduced benefits or complete overhaul of the system, it certainly means that you should plan with caution.
- Investment income – While investment income includes interest (coupon) payments and dividends, the focus here is on the interest portion. The old rule of thumb states that investment portfolios should become more conservative as retirement approaches; meaning a greater percentage invested in fixed income. Consider someone who retired 30 years ago and repositioned their portfolio more conservatively as mentioned above. Assuming that they repositioned their investment portfolio coincidentally with their retirement date, they were able to purchase a 30-year Treasury bond with a yield of somewhere in the neighborhood of 11% (at the time of this writing, the 30-year yield was just north of 3%). And that was a “risk free” security. Add in corporate bonds with credit risk and their yield would be even higher. What has this scenario looked like over the past 30 years? Recall the general rule regarding interest rates and bond prices: as interest rates fall, bond prices rise and vice versa. This retiree was able to lock in their interest income at a rate of roughly 11% and also watch their principal increase as interest rates fell. Now they would only receive the face value of the bond at maturity, but would have had plenty of opportunities to realize capital gains prior to maturity.
Let me add one last very important reminder. Nothing is cookie-cutter when it comes to financial planning nowadays, so each retirement plan should be specific to the individual. Step one in finding the right plan for you is to find the right financial advisor. We’ll touch on that in my next post!
–Billy Crafton, Financial Advisor
Credits: 3 Reasons Why Your Retirement Won’t Look Like Your Grandparents – NerdWallet (blog)
